Investment Analysis
Exam Preparation Guide
Course Introduction
Investment Analysis introduces students to the fundamental concepts and techniques used in evaluating and managing investment opportunities. The course covers topics such as risk and return, portfolio theory, asset pricing models, security valuation, and fundamental versus technical analysis. Through theoretical frameworks and practical applications, students learn to assess stocks, bonds, and alternative investments, understand market efficiency, and use financial tools to make informed investment decisions. Real-world case studies and data analysis reinforce the understanding of investment strategies and the impact of global economic factors on investment performance.
Recommended Textbook
Corporate Finance 2nd Edition by Jonathan Berk
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Page 2
Chapter 1: The Corporation
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Q1) The distinguishing feature of a corporation is that
A) their is no legal difference between the corporation and its owners.
B) it is a legally defined, artificial being, separate from its owners.
C) it spreads liability for its corporate obligations to all shareholders.
D) provides limited liability only to small shareholders.
Answer: B
Q2) Which of the following organization forms has the most revenue?
A) "S" Corporation
B) Limited Partnership
C) "C" Corporation
D) Limited Liability Company
Answer: C
Q3) What strategies are available to shareholders to help ensure that managers are motivated to act in the interest of the shareholders rather than their own interest?
Answer: 1.The threat of a hostile takeover
2.Shareholder initiatives
3.Performance based compensation
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Chapter 2: Introduction to Financial Statement Analysis
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Q1) Luther's earnings before interest,taxes,depreciation,and amortization (EBITDA)for the year ending December 31,2009 is closest to:
A) 19.7 million
B) 37.6 million
C) 41.2 million
D) 44.8 million
Answer: D
Q2) Which of the following is not a reason why cash flow may not equal net income?
A) Amortization is added in when calculating net income.
B) Changes in inventory will change cash flows but not income.
C) Capital expenditures are not recorded on the income statement.
D) Depreciation is deducted when calculating net income.
Answer: A
Q3) If ECE reported $15 million in net income,then ECE's Return on Equity (ROE)is:
A) 5.0%
B) 7.5%
C) 10.0%
D) 15.0%
Answer: D
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Page 4
Chapter 3: Arbitrage and Financial Decision Making
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Q1) The price per share of the ETF in a normal market is closest to:
A) $161.31
B) $322.62
C) $362.36
D) $483.93
Answer: C
Q2) Suppose you have $1,000 today and the risk-free rate of interest (r<sub>f</sub>)is 3.5%.The equivalent value in one year is closest to A) $965.00 today.
B) $966.18 today.
C) $1000.00 today.
D) $1035 today.
Answer: D
Q3) If the risk-free rate of interest is 7.5%,then the value of security "A" is closest to:
A) $91.00
B) $92.50
C) $93.00
D) $100.00
Answer: C
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Page 5
Chapter 4: The Time Value of Money
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Q1) If the appropriate interest rate is 8%,then present value of $500 paid at the beginning of each of the next 40 years is closest to:
A) $23
B) $5,962
C) $6,439
D) $20,0000
Q2) Dagny Taggart is a graduating college senior and she is considering the costs of going to medical school.Beginning next fall,Dagny expects medical school tuition to run $45,000 for the first year and she estimates that tuition will increase by 6% each year.If Dagny is able to invest her money in an account paying 8% interest per year,then the present value to Dagny of four years of medical school tuition is closest to:
A) $149,045
B) $155,930
C) $162,095
D) $180,000
Q3) You have been offered the following investment opportunity,if you pay $2500 today,you will receive $1000 at the end of each of the next three years.Draw a timeline detailing this investment opportunity.
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Chapter 5: Interest Rates
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Q1) Wesley Mouch's auto loan requires monthly payments and has an effect annual rate of 6.43%.The APR on this auto loan is closest to:
A) 6.00%
B) 6.25%
C) 6.50%
D) 6.62%
Q2) The lowest effective rate of return you could earn on any of these investments is closest to:
A) 6.150%
B) 6.250%
C) 6.289%
D) 6.300%
Q3) The effective annual rate (EAR)for a loan with a stated APR of 8% compounded monthly is closest to:
A) 7.72%
B) 8.00%
C) 8.30%
D) 8.66%
Q4) Should you purchase the delivery truck or lease it? Why?
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Chapter 6: Investment Decision Rules
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Q1) Assume that your capital is constrained,so that you only have $500,000 available to invest in projects.If you invest in the optimal combination of projects given your capital constraint,then the total NPV for all the projects you invest in will be closest to:
A) $111,000
B) $69,000
C) $80,000
D) $58.000
Q2) The payback period for project beta is closest to:
A) 2.9 years
B) 3.1 years
C) 2.6 years
D) 3.2 years
Q3) The payback period for project A is closest to:
A) 2.0 years
B) 2.4 years
C) 2.5 years
D) 2.2 years
Q4) What is the incremental IRR for project B over project A? Would you feel comfortable basing your decision on the incremental IRR?
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Chapter 7: Fundamentals of Capital Budgeting
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Q1) Which of the following statements is false?
A) When evaluating a capital budgeting decision, the correct tax rate to use is the firm's average corporate tax rate.
B) To determine the capital budget, firms analyze alternative projects and decide which ones to accept through a process called capital budgeting.
C) A new product typically has lower sales initially, as customers gradually become aware of the product.
D) Sunk costs have been or will be paid regardless of the decision whether or not to proceed with the project.
Q2) An analysis that breaks the NPV calculation into its component assumptions and shows how the NPV varies as one of the underlying assumptions is changed is called A) scenario analysis.
B) IRR analysis.
C) accounting break-even analysis.
D) sensitivity analysis.
Q3) Assume that Kinston's new machine will be depreciated straight line to a salvage value of $5,000 at the end of year three.What is the NPV for this project?
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Chapter 8: Valuing Bonds
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Q1) The credit spread on B-rated corporate bonds is:
A) 1.0%
B) 1.5%
C) 2.6%
D) 4.1%
Q2) Assuming that this bond trades for $1,035.44,then the YTM for this bond is equal to:
Q3) The price (expressed as a percentage of the face value)of a one-year,zero-coupon corporate bond with a BBB rating is closest to:
A) 95.60
B) 94.16
C) 95.42
D) 94.70
Q4) Consider a zero coupon bond with 20 years to maturity.The percentage change in the price of the bond if its yield to maturity decreases from 7% to 5% is closest to:
A) 46%
B) 17%
C) 22%
D) 38%
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Chapter 9: Valuing Stocks
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Q1) What are some common multiples used to value stocks?
Q2) You expect KT Industries (KTI)will have earnings per share of $3 this year and expect that they will pay out $1.50 of these earnings to shareholders in the form of a dividend.KTI's return on new investments is 15% and their equity cost of capital is 12%.The value of a share of KTI's stock is closest to:
A) $39.25
B) $20.00
C) $33.35
D) $12.50
Q3) If you want to value a firm that has consistent earnings grow,but varies how it pays out these earnings to shareholders between dividends and repurchases,the simplest model for you to use is the A) enterprise value model. B) dividend discount model.
C) total payout model.
D) discounted free cash flow model.
Q4) Suppose you plan to hold Von Bora stock for only one year.Calculate your total return from holding Von Bora stock for the first year.
Q5) Calculate the enterprise value for DM Corporation.
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Chapter 10: Capital Markets and the Pricing of Risk
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Q1) The expected return on security with a beta of 0.8 is closest to:
A) 0.0%
B) 3.2%
C) 6.4%
D) 7.2%
Q2) Suppose an investment is equally likely to have a 35% return or a - 20% return.The expected return for this investment is closest to:
A) 7.5%
B) 15%
C) 5%
D) 10%
Q3) Using the data provided in the table,calculate the average annual return,the variance of the annual returns,and the standard deviation of the average returns for the market from 2000 to 2009.
Q4) The expected return on security "Y" is closest to:
A) 0%
B) 4%
C) 10%
D) 15%
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Chapter 11: Optimal Portfolio Choice and the Capital Asset Pricing Model
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Q1) The variance on a portfolio that is made up of a $6000 investments in Microsoft and a $4000 investment in Wal-Mart stock is closest to:
Q2) The Sharpe Ratio for Wyatt Oil is closest to:
A) 0.40
B) 0.48
C) 0.56
D) 0.80
Q3) California Gold Mining's required return is closest to:
A) -5%
B) 13%
C) 15%
D) 5%
Q4) You want to maximize your expected return without increasing your risk.Without increasing your volatility beyond its current 10%,the maximum expected return you could earn is closest to:
A) .12.0%
B) 12.5%
C) 13.4%
D) 15.0%
13
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Chapter 12: The Capital Asset Pricing Model
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Q1) Using the average historical excess returns for both Wyatt Oil and the Market portfolio estimate of Wyatt Oil's Beta.When using this beta,the alpha for Wyatt oil in 2007 is closest to:
A) -0.5000%
B) -0.0250%
C) -0.0125%
D) +0.0250%
Q2) The Market's average historical excess return is closest to:
A) -2.50%
B) -3.33%
C) -4.33%
D) -5.17%
Q3) Luther's unlevered cost of capital is closest to:
A) 7.0%
B) 9.8%
C) 10.8%
D) 11.5%
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14
Chapter 13: Investor Behavior and Capital Market Efficiency
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Q1) Which of the following is not an investment likely to be found in any proxy for the market portfolio?
A) Human capital
B) Stocks
C) Bonds
D) Precious metals
Q2) The expected return for the fad follower's portfolio is closest to:
A) 11.5%
B) 12.4%
C) 13.6%
D) 16.0%
Q3) When all investors correctly interpret and use their own information,as well as information that can be inferred from market prices or the trades of others,they are said to have
A) sensation seeking expectations.
B) positive expectations.
C) rational expectations.
D) confident expectations.
Q4) What does the existence of a positive alpha investment strategy imply?
Q5) Explain why the market portfolio proxy may not be efficient.
Page 15
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Chapter 14: Capital Structure in a Perfect Market
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Q1) Assume that in addition to 1.25 billion common shares outstanding,Luther has stock options given to employees valued at $2 billion.The market value of Luther's non-cash assets is closest to:
A) $22 billion
B) $20 billion
C) $25 billion
D) $18 billion
Q2) Considering the fact that Luther's Cash is risk-free,Luther's unlevered beta is closest to:
A) 1.90
B) 2.25
C) 1.50
D) 1.45
Q3) Galt's WACC is closest to:
A) 10.6%
B) 11.2%
C) 11.8%
D) 12.5%
Q4) Show mathematically that the stock price of RC won't change following the debt issuance and share repurchase.
Page 16
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Chapter 15: Debt and Taxes
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Q1) Which of the following statements is false?
A) Even though firms have not issued new equity, the market value of equity has risen over time as firms have grown.
B) While firms seem to prefer debt when raising external funds, not all investment is externally funded.
C) To receive the full tax benefits of leverage a firm needs to use 100% debt financing.
D) If bankruptcy is costly, these costs might offset the tax advantages of debt financing.
Q2) Assume that investors hold Google stock in retirement accounts that are free from personal taxes.If Google were to issue sufficient debt to reduce its taxes by $600 million per year permanently,then the amount that Google needs to borrow is closest to:
A) $14.25 billion
B) $22.00 billion
C) $24.50 billion
D) $40.75 billion
Q3) If Flagstaff currently maintains a .8 debt to equity ratio,then calculate the value of Flagstaff's interest tax shield.
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17
Chapter 16: Financial Distress,managerial Incentives,and Information
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Q1) Assume that capital markets are perfect except for the existence of corporate taxes and that your firm pays 40% of earnings in taxes.If you want to maintain ownership of at least a 50%,then the minimum amount of debt that you must issue to fund the expansion is closest to:
A) $19 million
B) $18 million
C) $16 million
D) $20 million
Q2) In order for Nielson Motor's to be willing to invest,project 3 must have an NPV greater than:
A) $12.5 million
B) $15.0 million
C) $22.5 million
D) $27.0 million
Q3) The initial value of MI's equity without leverage is closest to:
A) $133 million
B) $147 million
C) $140 million
D) $150 million
Q4) List five general categories of indirect costs associated with bankruptcy.
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Chapter 17: Payout Policy
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Q1) Assume that you own 2500 shares of Omicron stock and that Omicron uses the entire $50 million to repurchase shares.Suppose you are unhappy with Omicron's decision and would prefer that Omicron used the excess cash to pay a special dividend.The number of shares that you would have to sell in order to receive the same amount of cash as if Omicron paid the special dividend is closest to:
A) 275
B) 310
C) 125
D) 250
Q2) The effective dividend tax rate for a one-year individual investor in 1999 is closest to:
A) 0%
B) 20%
C) 25%
D) 40%
Q3) The effective dividend tax rate for a pension fund in 2006 is closest to:
A) 20%
B) 0%
C) 25%
D) 15%
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Page 19
Chapter 18: Capital Budgeting and Valuation With Leverage
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Q1) Assuming that to fund the investment Taggart will take on $250 million in permanent debt and ignoring issuance costs,the NPV of Taggart's new rail line is closest to:
A) $195 million
B) $200 million
C) $235 million
D) $240 million
Q2) Which of the following is not one of the simplifying assumptions made for the three main methods of capital budgeting?
A) The firm pays out all earnings as dividends.
B) The project has average risk.
C) Corporate taxes are the only market imperfection.
D) The firm's debt-equity ratio is constant.
Q3) The NPV for Omicron's new project is closest to:
A) $23.75
B) $27.50
C) $28.75
D) $25.75
Q4) Calculate the debt capacity of Omicron's new project for years 0,1,and 2.
Q5) Calculate the NPV for Iota's new project.
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Chapter 19: Valuation and Financial Modeling: a Case Study
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Q1) With the proper changes it is believed that Ideko's credit policies will allow for an account receivables days of 60.The forecasted accounts receivable for Ideko in 2006 is closest to:
A) $19,690
B) $16,970
C) 22,710
D) $14,525
Q2) Assuming that Ideko has a EBITDA multiple of 9.4,then the continuation EV/Sales ratio of Ideko in 2010 is closest to:
A) 1.9
B) 1.7
C) 1.6
D) 1.8
Q3) The amount of the increase in net working capital for Ideko in 2008 is closest to:
A) $4,685
B) $3,665
C) $4,090
D) $5,230
Q4) What is the purpose of the sensitivity analysis?
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Chapter 20: Financial Options
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Q1) Consider the following equation:
C = P + S - PV(K)- PV(Div)
In this equation the term S refers to
A) the payoff of a zero coupon bond.
B) the strike price of the option.
C) the value of the call option.
D) the stocks current price.
Q2) Graph the payoff at expiration of a short position in a put option with a strike price of $20.
Q3) KD Industries stock is currently trading at $32 per share.Consider a put option on KD stock with a strike price of $30.The maximum value of this put option is:
A) $0
B) $32
C) $30
D) $2
Q4) You are long both a put option and a call option on Rockwood stock with the same expiration date.The exercise price of the call option is $40 and the exercise price of the put option is $30.Graph the payoff of the combination of options at expiration.
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Page 22
Chapter 21: Option Valuation
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Q1) Which of the following statements is false?
A) After we have constructed the tree and calculated the probabilities in the risk-neutral world, we can use them to price the derivative by simply discounting its expected payoff (using the risk neutral probabilities) at the risk-free rate.
B) By using the probabilities in the risk-neutral world we can price any derivative security-that is, any security whose payoff depends solely on the prices of other marketed assets.
C) To ensure that all assets in the risk-neutral world have an expected return equal to the risk-free rate, relative to the true probabilities, the risk-neutral probabilities underweight the bad states and overweight the good states.
D) In Monte Carlo simulation, the expected payoff of the derivative security is estimated by calculating its average payoff after simulating many random paths for the underlying stock price.
Q2) Luther Industries does not pay dividend and is currently trading at $25 per share.The current risk-free rate of interest is 5%.Calculate the price of a call option on Luther Industries with a strike price of $30 that expires in 75 days when N(d<sub>1</sub>)= .639 and N(d<sub>2</sub>)= .454.
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Page 23
Chapter 22: Real Options
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Q1) Assuming you are able to see the plant,draw a decision tree detailing this problem.
Q2) Assume that you are not able to sell the plant,but you are able to shut down the plant at no cost at any time.Given the embedded option to abandon production the value of your plant will be closest to:
A) $8.0 million
B) $4.0 million
C) $5.0 million
D) $6.5 million
Q3) Assuming that Kinston does not have the ability to sell the prototype in year one for $300,000,the NPV of the Kinston Industries Mountain Bike Project is closest to:
A) -$45,000
B) $455,000
C) $590,000
D) $90,000
Q4) Assuming that Kinston does not have the ability to sell the prototype in year one for $300,000,draw a decision tree detailing the Kinston Industries Mountain Bike Project.
Q5) Describe the two factors that affect the value of an investment timing option?
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Page 24
Chapter 23: The Mechanics of Raising Equity Capital
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Q1) When a private equity firm purchases the outstanding equity of a publicly traded firm,thereby taking the company private,the transaction is called a(n)
A) private leveraged transaction.
B) leveraged buyout.
C) cash offer.
D) initial public offering.
Q2) Suppose that the post IPO value of Wyatt is its fair market value.Suppose Wyatt could have issued shares directly to investors at their fair market value,in a perfect market with no underwriting spread and no under pricing.If you raise the same amount of funds that you would have with the investment banker handling the underwriting,the share price in this case is closest to:
A) $35
B) $37
C) $46
D) $61
E) $73
Q3) How much money did Luther raise?
Q4) What will the offer price of these shares be if Luther is selling 800,000 shares?
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Chapter 24: Debt Financing
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Q1) Which of the following statements regarding sinking fund provisions is false?
A) With a sinking fund, if a bond is trading at below its face value, because the bonds are repurchased at par the decision as to which bonds to repurchase is made by lottery.
B) With a sinking fund, instead of repaying the entire principal balance on the maturity date, the company makes regular payments into a sinking fund administered by a trustee over the life of the bond.
C) Sinking fund provisions usually specify a minimum rate at which the issuer must contribute to the fund.
D) Because the sinking fund allows the issuer to repurchase the bonds at par, the option to accelerate the payments is another form of call provision.
Q2) Treasury securities that are semiannual-paying coupon bonds with maturities longer than 10 years are called
A) Treasury bonds.
B) TIPS.
C) Treasury bills.
D) Treasury notes.
Q3) What is the Yield to Call (YTC)on this bond?
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Chapter 25: Leasing
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Q1) Which of the following statements is false?
A) A lease is a contract between two parties: the lessee and the lessor.
B) Most leases involve little or no upfront payment.
C) The lessee is the owner of the asset, who is entitled to the lease payments in exchange for lending the asset.
D) At the end of the contract term, the lease specifies who will retain ownership of the asset and at what terms.
Q2) If Luther acquires the new fleet of delivery trucks using a capital lease,Luther's Debt to Equity ratio will be closest to:
A) 0.66
B) 1.5
C) 0.80
D) 2.0
Q3) A lease where the lessee can purchase the asset at the minimum of its fair market value and a fixed price is called a
A) $1.00 out lease.
B) fixed price lease.
C) fair market value lease.
D) fair market value cap lease.
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Page 27
Chapter 26: Working Capital Management
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Q1) Which of the following money market investments is a short-term debt obligations of the U.S.government?
A) Treasury Bill
B) Repurchase Agreement
C) Commercial Paper
D) Certificates of Deposit (CD)
E) Banker's Acceptance
Q2) Which of the following is not a direct costs associated with inventory?
A) Acquisition costs
B) Order costs
C) Carrying costs
D) Stock out costs
Q3) Describe "just-in-time" inventory management.
Q4) The average number of inventory days outstanding for Rearden is closest to:
A) 6 days
B) 8 days
C) 37 days
D) 64 days
Q5) What is a compensating balance?
Q6) Calculate the number of days in Luther's Operating Cycle.
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Chapter 27: Short-Term Financial Planning
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Q1) Occasionally,a company will encounter circumstances in which cash flows are temporarily negative for an unexpected reason.We refer to such a situation as
A) a liquidity shock.
B) a negative cash flow shock.
C) a negative liquidity shock.
D) a cash crunch.
Q2) Which of the following statements is false?
A) Bank loans are typically initiated with a promissory note, which is a written statement that indicates the amount of the loan, the date payment is due, and the interest rate.
B) The most straightforward type of bank loan is a single, end-of-period-payment loan.
C) With a fixed interest rate, the specific rate that the bank will charge is stipulated at the time the loan is made.
D) One of the primary sources of short-term financing, especially for small businesses, is the investment bank.
Q3) Calculate the temporary working capital needs for each of the four quarters for Hasbeen Toys.
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Chapter 28: Mergers and Acquisitions
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Q1) In a ________ merger,the target's industry buys or sells to the acquirer's industry. A) conglomerate
B) vertical
C) horizontal
D) diagonal
Q2) You work for a levered buyout firm and are evaluating a potential buyout of Boogle Inc.Boogle's stock price is $18,and it has 3 million shares outstanding.You believe that if you buy the company and replace its dismal management team,its value will increase by 50%.You are planning on doing a levered buyout of Boogle and will offer $25 per share for control of the company.Assuming you get 50% control,what will your gain from the transaction be?
Q3) The justification for the benefits of diversification from mergers include all of the following except A) tax loss benefits.
B) lower cost of debt or increased debt capacity.
C) direct risk reduction.
D) liquidity enhancement.
Q4) What is a white knight?
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Chapter 29: Corporate Governance
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Q1) The Sarbanes-Oxley Act
A) prohibits insiders with a fiduciary duty to their shareholders from trading on material non-public information in that stock.
B) prohibits anyone with nonpublic information about a pending or ongoing tender offer from trading on that information.
C) overhauls incentive and independence in the auditing process.
D) requires corporations to consider all stakeholders in corporate governance decisions.
Q2) While the Sarbanes-Oxley Act (SOX)contains many provisions,the overall intent of the legislation was to improve the accuracy of information given to both boards and to shareholders.SOX attempted to achieve this goal in all of the following ways except A) overhauling incentives and independence in the auditing process.
B) mandating the separation of the positions of CEO and Chairman of the Board.
C) stiffening penalties for providing false information.
D) forcing companies to validate their internal financial control processes.
Q3) What is the difference between Inside,gray,and outside directors?
Q4) What are some of the negative effects of increasing the sensitivity of managerial pay to firm performance?
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Chapter 30: Risk Management
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Q1) The actuarially fair premium for this insurance policy is closest to:
A) $417,000
B) $446,000
C) $500,000
D) $568,000
Q2) Suppose the current exchange rate is $1.42/ ,the interest rate in the United States is 4.0%,the interest rate in the EU is 6%,and the volatility of the $/ exchange rate is 20%.Using the Black-Scholes formula,the price of a three-month European call option on the Euro with a strike price of $1.45/ will be closest to:
A) $0.040/
B) $0.059/
C) $0.078/
D) $0.097/
Q3) If your firm is fully insured,the NPV of implementing the new safety policies is closest to:
A) $2.15 million
B) $2.5 million
C) $2.25 million
D) -$.25 million
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Chapter 31: International Corporate Finance
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Q1) What conditions cause the cash flows of a foreign project to be affected by exchange rate risk?
Q2) Which of the following statements is false?
A) U.S. tax policy requires U.S. corporations to pay taxes on their foreign income at the same rate as profits earned in the United States.
B) The home government gets an opportunity to tax the income from a foreign project to the domestic firm.
C) The general international arrangement prevailing with respect to taxation of corporate profits is that the home country gets the first opportunity to tax income.
D) The home government must establish a tax policy specifying its treatment of foreign income and foreign taxes paid on that income.
Q3) Suppose the interest rate on Russian government bonds is 7.8%,and the current exchange rate is 26.8 rubles per dollar.If the forward exchange rate is 27.2 rubles per dollar,and the current U.S.risk-free interest rate is 4.6%,what is the implied credit spread for the Russian government bonds?
Q4) Calculate the pound denominated cost of capital for Luther's project.
Q5) What is the pound present value of the project?
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